You will be paying $10,000 a year in tuition expenses at the end of the next two

Question

You will be paying $10,000 a year in tuition expenses at the end of the next two years. Bonds currently yield 8%. What is the present value and duration of your obligation? (Do not round intermediate calculations. Round "Present value" to 2 decimal places and "Duration" to 4 decimal places.) What is the duration of a zero-coupon bond that would immunize your obligation and its future redemption value? (Do not round intermediate calculations. Round "Duration" to 4 decimal places and "Future redemption value" to 2 decimal places.) You buy a zero-coupon bond with value and duration equal to your obligation. Now suppose that rates immediately increase to 9%. What happens to your net position, that is, to the difference between the value of the bond and that of your tuition obligation? (Do not round intermediate calculations. Round your answer to 2 decimal places.) What if rates fall to 7%? (Do not round intermediate calculations. Round your answer to 2 decimal places.)

Explanation / Answer

15

a) Present value = 10000/1.06 + 10000/1.06^2

Present value = $ 18,333.93

Duration = 10000/1.06/18333.93 * 1 +  10000/1.06^2/18,333.93 *2

Duration = 1.4854 years

2)

Duration = 1.4854 Years

Future Redemption Value = 18133.93*1.10^1.4854

Future Redemption Value = 20891.84

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